You Better Believe It

by Jason Norris, CFA Executive Vice President of Research

You Better Believe It

This holiday week equities continued their historic seasonal trend of strength in December. Driven by positive economic data in the U.S, although many investors had started 2014 with a lot skepticism regarding the durability of the U.S. economy, we are now getting confirmation as to just how healthy it really is. For example, this past Tuesday brought an impressive GDP revision of 1.1 percent to 5 percent. This solid upgrade was driven primarily by consumer spending. This data resulted in a post-winter vortex snap back of 4.8 percent over the last six months. While this may be above expected trend for 2015, it does highlight the underlying stability in the U.S. economy. Wednesday’s unemployment claims confirmed such vitality with only 280,000 people filing for initial jobless benefits (a number under 300,000 is considered healthy). The recovery we have seen in jobs in 2014 is the best we have seen in over a decade. Case in point, through November, the U.S. has added 2.65 million new jobs, which is the best annual job growth since 1999. Lower gas prices and higher consumer confidence provides a tailwind into 2015 which keeps us bullish on the U.S. economy, and more specifically, the U.S. consumer.

Somebody Get Me a Doctor

This most recent data may have put a scare in some of the defensive sectors, specifically healthcare. The sector was hit hard on Tuesday (down over 2 percent) as investors liquidated positions from biotech to pharma. Healthcare has been a popular overweight this year and investors have benefitted with a 25 percent total return year-to-date. However, a shift to more cyclical sectors of the economy (technology, oil and materials, for example) may be a headwind. Investors were also concerned about a recent deal between Express Scripts (a large pharmacy benefits manager) and Abbvie (a pharmaceutical research and development company) regarding their recently-launched Hepatitis C drug. Throughout most of 2014, Gilead Sciences had a virtual monopoly on a Hep C cure; however, the treatment was pretty pricey. Abbvie launched their competitive drug on Friday, December 20, which didn’t bring much fanfare. However, over the weekend they signed a deal with Express Scripts to be the sole regimen for two-thirds of Hep C cases. Speculation is that Abbvie was pretty aggressive on discounting. Investors initially took Gilead to the “woodshed.” However, they followed through with broad selling over concerns of future pricing pressure for all drugs and devices. While Gilead garners close to 50 percent of the revenues from Hep C treatments, Abbvie is estimated to only have 10 percent. Therefore, while it is a great complement to their portfolio, the company has a solid pipeline of novel drugs as well.

Spirit of the Season

Here’s hoping for a bountiful holiday season and if the equity returns stay true to their seasonal trends, we should finish with a strong December and hopefully hold the 18,000 mark on the Dow. Fun fact: since 1987, the month of December has posted the highest monthly returns for the entire year.

Happy Holidays to you and yours from all of us at Ferguson Wellman and West Bearing.

Our Takeaways for the Week: 

  • True to recent market history, December is shaping up to be a good month for equities
  • The U.S. economy is ending the year on solid footing



Jason Norris of Ferguson Wellman by Jason Norris, CFA Executive Vice President of Research


The more things change, the more they stay the same. Five months ago, we rebuked the old Wall Street adage of “sell in May and go away” which, through the end of August, was a good call. From May 1st to Aug 31st, the S&P 500 was up just over 7 percent. However, just like clockwork, the month of September looks to be producing the same results it historically has. Since 1928, September is the only month out of the twelve that has an average negative return. With only a couple of trading days left, it looks like that trend will not be “bucked” this year. Even though there is still time to pull even, the end of the month is usually the weakest (see below).

SP 500 Seasonality

Source: Renaissance Macro Research

Send for the Man

While this has been a bad week for stocks, it was also not a good week for healthcare mergers and acquisitions. On Monday afternoon, U.S. Treasury Secretary Jack Lew issued some administrative rules making it harder for U.S. companies to start inversion mergers. This type of merger allows a U.S. company to buy a smaller foreign company and relocate offshore to lower tax jurisdictions (see an earlier post for details). Most of these deals are centered in the healthcare space and while these changes will not stop potential inversions, they are designed to make them more difficult. For example, Medtronic is currently in talks to purchase Covidian (based in Ireland) and would use a meaningful amount of offshore cash to finance the deal. With these new rules, Medtronic would not have access to that cash without paying U.S. taxes. Therefore, they will have to look for other financing means, most likely debt, thus slightly increasing the cost. We still believe the deal will be completed, but it does show that the U.S. Treasury is adamant about changing this part of the U.S. tax code. AbbVie and Shire may also be affected; however, the tax benefits are not as meaningful and the gains from the Shire pipeline are significant enough to proceed.

Lesson Learned

Last week was not a good week for Apple. After announcing a record weekend of sales for the iPhone6 and iPhone6+ with over 10 million handsets sold (and this without shipping any to China), any good financial news was eclipsed by issues with the iPhone6+ bending and a botched iOS update. Investors didn’t have patience for the stock during the last few days. We believe that despite these hiccups, this iPhone launch will net over 60 million units this month, and based on pricing and component costs, should be accretive to gross margins.

What we know

  • The trend of September probably won’t be broken and stocks will give back some of their summer gains
  • Both buy and sell side analysts have been on the phone with their tax attorneys due to Secretary Jack Lew’s administrative order regarding inversions


Summertime Blues

Jason Norris of Ferguson Wellman by Jason Norris, CFA Executive Vice President of Research

Recent weakness in the S&P 500 has led to a lot of chatter regarding the inevitable pullback in equities. While the last few weeks have exhibited some weakness, stocks are still up close to 5 percent, year-to-date. While the United States continues to show improving growth, as seen in recent jobless claims and the Purchasing Managers Index (PMI), global political affairs have wound the markets tight. Russia continues to make noise in the Ukraine while the Middle East is demonstrating that nothing has (nor will) changed for decades. This uncertainty coupled with growth concerns in both China and Europe has led to a rally in bonds as well as a minor sell-off in equities.

The 10-year Treasury now yields just above 2.4 percent, which is the lowest in over a year, as global investors flock to the U.S. dollar and park cash in “risk free” assets. This flow of funds has resulted in weakness in equities. U.S. equities are down close to 4 percent from recent highs which have led to some talking heads focusing on an impending sell-off. However, these 2 to 5 percent pullbacks are normal in bull markets. For instance, over the last 30 months, we have seen nine 2+ percent pullbacks, but the S&P 500 is up over 60 percent in that period. What we continue to watch is improvement in the U.S. economy, growing corporate revenues and reasonable valuation. The current environment is favorable for all of those.

Messin’ with a Hurricane

This week brought the first hurricane to the Hawaiian Islands in 22 years, as well as a “storm of headlines” regarding U.S. companies relocating offshore. The equity market was not too happy with Walgreens’ decision earlier this week not to seek a “tax inversion” with its pending acquisition of Alliance Boots in Switzerland. While domiciling in Switzerland would have saved Walgreens billions of dollars in tax expenses, the company decided stay committed to the state of Illinois. There is speculation that the Obama administration’s use of the bully pulpit was a key factor in management’s decision to continue to pay higher taxes. We believe that an inversion would be more difficult for Walgreens to pull off since most of their revenues are generated in the U.S., thus no offshore cash to repatriate. On the other hand, companies like Abbvie and Medtronic have meaningful amounts of international business, thus their “inversion” acquisitions (Shire and Covidian, respectively) would be easier to justify.

What this recent trend highlights is the need to restructure the U.S. tax code so companies can be more competitive globally. While many of these deals may still be pursued, the tax savings is a key attribute in the overall structure. What can’t get lost in the noise is that although U.S. companies may change their mailing address, they will still bring their offshore cash back to the U.S. and reinvest domestically. With a mid-term election this year, major tax reform may not happen at least until 2015, and possibly not until after the 2016 presidential election.

Too High to Fly

A few weeks ago, the state of Washington started selling recreational marijuana which coincided with the cracking of the high-yield bubble. High-yield bonds have been a strong performer over the last several years; however, like stocks, the month of July hasn’t been friendly to the high-yield market. Spreads have started to increase in the face of lower Treasury yields. This culminated with over $7 billion exiting high-yield funds last week. We don’t believe this is a “canary in the coal mine” with respect to corporate America; however, we are watching it closely. High-yield bonds are trading at historically tight levels, just over 3 percent above Treasury yields, as investors seek income. The long-term average spread has been close to 6 percent higher than Treasuries. Therefore, we would not be surprised if that market continues to show poor performance as we revert back to the mean. While, there are times we may venture into lower rated bonds, we believe that the market as a whole is a bit rich and would wait for spreads to widen further before we allocate additional capital.

Our Takeaways for the Week

  • Minor equity pullbacks are common and investors need to stay focuses on the fundamentals
  • While July saw a “risk-off” market, we still believe equities will outperform bonds for the rest of 2014